Monday, 10 October 2016

And the Nobel Prize in Economics goes to...

Every year I get equally excited ("Eurovision for Economists"...?), and every year these two seriously annoying things happen:
  1. Some pundit tells me that it isn't really a Nobel Prize but only the Swedish Central Bank's prize in honour of Alfred Nobel. As if I didn't know that. The importance of a prize comes from how people treat it; and economists/media treat the Swedish Riksbank Prize as a Nobel Prize, giving an awful lot of attention to the winner and his/her research. Hence, it matters. Grow up. 
  2. Someone will downplay the importance of the prize, either argue that we also need prizes for sociology, gender studies, psychology and political sciences, or that even Hayek argued against the institution of the prize, because it confers authority on economists in very unhelpful ways. 
And as WSJ pointed out the other day, nobody had a clue about who the winner would be.

For the twenty-third time, the Royal Academy of Science decided to split the prize between two or more recipients. This year's prize-takers are Bengt Holmström (MIT) and Oliver Hart (Harvard), for their work on contract theory - and pretty much nobody saw that coming. Never before was the Prize awarded to a Finnish person (congratulations!). 

Contract theory is the study of how to design agreements between people in the economy (particularly CEO contracts to give them incentives to act in accordance with shareholder interest), and to minimize Principal-agent problems. In addition, the theory governing the right to make decisions in regards to outcomes, becomes interesting since ex ante parties to a contract can never know the full extent of what will occur in the world. This is how Wikipedia describes it: 
The incomplete contracting paradigm was pioneered by Sanford J. Grossman, Oliver D. Hart, and John H. Moore. In their seminal contributions, Grossman and Hart (1986), Hart and Moore (1990), and Hart (1995) argue that in practice, contracts cannot specify what is to be done in every possible contingency. At the time of contracting, future contingencies may not even be describable. Moreover, parties cannot commit themselves never to engage in mutually beneficial renegotiation later on in their relationship. Thus, an immediate consequence of the incomplete contracting approach is the so-called hold-up problem.
As usual, the journalists covering the ceremony are probably the least competent people on the planet. The first question given to Dr. Bengt Holmström was "What do you think about exorbitant CEO bonuses?". That's the extent to which these imbiciles can understand - or frankly care - about the research of prominent scholars. Good thing Dr. Holmström had the clarity of mind to simply discard the question saying "it is too complex to answer categorically".

All in all, congrats to Dr. Holmström & Dr. Hart, and I'm sure the media over the next few months will be filled with very interesting interviews and analysis of their works.

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